Despite showing some signs of steadying its business after a few missteps last year, Intel, Santa Clara, Calif., reported late on Tuesday that fourth-quarter profit fell 39% from the year-earlier period, to $1.5 billion. The profit was hurt by lower average selling prices for its microprocessors compared with a year earlier and higher startup costs for its factories.

Intel
INTC, +1.40%
has been seeking to beat back a challenge from AMD by cutting prices, boosting investment, and selling higher-performing chips for desktops, laptops, and corporate servers.

Fourth-quarter sales fell 5% to $9.7 billion. But that figure topped Wall Street expectations of $9.4 billion and was at the high end of the company's own forecast, suggesting Intel's latest chips are boosting demand.

The company also said the average selling prices of its chips improved from the end of the third quarter and it shipped a record number of microprocessors.

"Intel turned in a positive surprise on almost all elements except gross margin, which unfortunately will likely overshadow the firm's improving strength," wrote Stifel Nicolaus analyst Cody Acree, who rates Intel shares a buy.

The company's gross margin, a key measure of profitability, narrowed sharply, to 49.6% of sales from 61.8% a year earlier.

Intel forecast that its gross margin would be 50% in 2007, below most of Wall Street's expectations. In better times, the company's gross margin has ranged from 55% to 62%.

This "would appear to signal another few quarters of weak gross profitability -- implying that there is no rush to get into the stock," wrote Daniel Berenbaum, who rates Intel shares neutral.

Intel's profit margins have been hurt amid stiff price competition from AMD, inventory write-offs, decreased activity at certain factories, and higher spending on new factories that use more sophisticated processes for making chips.

Stressing market share

Chief Executive Paul Otellini, on a conference call to discuss the results, made clear that Intel plans to use its manufacturing muscle and pricing power to regain lost business, even at the expense of profitability.

"I continue to believe that our shareholders are best served by Intel using its capacity to retake market share that we lost this year," Otellini said.

Intel was forced to cut prices in mid-2006 after AMD gained share in the markets for chips used to power personal computers and servers. PC demand was also sluggish as many buyers put off purchases while awaiting Vista, the newest version of the Windows operating system that Microsoft Corp.
MSFT, +1.05%
is rolling out.

Computer-chip sales fell 6.6% to $31.9 billion last year, according to a preliminary estimate from market-researcher iSuppli, the biggest percentage drop in five years.

Intel's sales were particularly weak in its region that includes Europe, with revenue falling 17% from a year ago to $1.9 billion. In Asia, its biggest market, sales fell 5% to $4.9 billion, while sales in the Americas rose 9% to $2 billion.

Restructuring and counterattacking

To boost its margin, Intel has been selling off some chip lines, slashing jobs and rolling out higher-performing computer chips. It plans to cut 10,500 jobs, or 10% of its work force, by mid-2007.

Intel said the average selling prices for its PC chips were higher in the fourth quarter than in the third quarter as it shipped a record number of microprocessors, which run PCs. Six months ago, the company began selling new chips for PCs and data-server networks in a bid to stem market-share losses to AMD.

At least until this summer, "it looks like Intel will be in control of their destiny in terms of market share and prices," said Hans Mosesmann, analyst at Nollenberger Capital Partners. He rates Intel shares buy.

Intel's counterattack has hurt AMD. Last week, AMD, Sunnyvale, Calif., warned that profit would be hurt by lower average selling prices for its chips. See full story.

Even so, Intel expects the computer-chip business to be competitive this year and it declined to forecast average selling prices in 2007.

"We're going to have to fight to win orders," Chief Financial Officer Andy Bryant said on the conference call.

Intel ended 2006 with a work force of 94,100, down from the 102,500 workers it had when it announced a restructuring last April. Intel said it plans to save $2 billion in costs this year.

Intel also offered a first-quarter sales forecast in the range of $8.7 billion to $9.3 billion, roughly in line with analysts' estimates of $8.9 billion.

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